Volatile Financial Markets Require New Strategies to Strike Balance
Between Risk and Return
TORONTO, Jan. 7 /CNW/ - A new survey released by Hewitt Associates, a
global human resources consulting and outsourcing company, reveals that many
companies around the world have not taken adequate measures to guard against
defined benefit (DB) pension risk. Even in the face of weak economic
conditions and poor market returns, most companies have taken only small and
conservative steps to risk management. The issue is particularly pressing in
Canada, which survey results indicate has the highest proportion of DB plans
open to new entrants, as compared to companies from other countries responding
to the survey.
Since the start of the credit crunch in the last quarter of 2007, pension
plan assets on a global level have plummeted by US$4 trillion. Against this
background, Hewitt conducted a survey of 171 plan sponsors in 12 countries in
summer 2008 to determine their approaches and attitudes to managing pension
"The current financial environment underscores the need for organizations
to manage retirement risk in the same way they handle general business risk-by
determining their risk tolerance and being vigilant," said Rob Vandersanden, a
senior pension consultant in Hewitt's Calgary office. "We're not advocating
that companies eliminate risk entirely-that would minimize investment
returns-but we do recommend that they understand the risk they've assumed and
ensure it is appropriate for the return it is likely to generate."
In terms of the factors that influence a company's attitude towards
managing pension risk, accounting issues dominate globally, principally in
terms of the impact on the profit and loss statement. Canadian organizations,
due to differences in accounting standards between Canada and the rest of the
world and our solvency funding regime, are more concerned with cash funding
The impact on a plan sponsor's financial resources is so significant that
organizations, particularly in Canada, are moving pensions out of the realm of
human resources and under the management of their finance teams.
Strategy versus Knee-Jerk Reaction
Survey respondents were asked about the measures they use to quantify
their risk exposure and how frequently they measure risk:
- Pension risk is still typically looked at in isolation, with nearly
half of responses supporting this view. Around one in six respondents
indicated that pension risk is considered in the context of their
overall enterprise risk budget.
- Over one half of participants use asset liability modeling to
determine their pension risk. In addition, one third also look at
numerical values for pension risk drawn from deterministic shocks
(e.g., a 20 per cent fall in equities) and another one third use a
Value at Risk metric on a local or global basis.
- Surprisingly, one third of Canadian participants say they have no
formal quantified measure of their pension risk.
- The most typical risk monitoring pattern for Canadian organizations
is a quarterly update on asset values (45 per cent of respondents),
but an annual update of liability values, and risk measures (45 per
cent of Canadian respondents) is also common. However, the frequency
of risk monitoring may have increased in recent months with higher
Despite the fact that companies may not have a good idea of their risk
tolerance or a timely indication of their risk exposure, some are taking steps
to minimize risk, primarily with respect to their investment portfolios. They
are moving away from conventional holdings of equities towards more liability
matching solutions and alternative investments, such as real estate, hedge
funds, commodities, private equity and infrastructure.
"Taking early action to move to more secure, lower-risk investments makes
sense when markets are volatile," said Vandersanden. "However, ideally an
organization would want to change strategy only after it had identified its
particular comfort level with risk and quantified its current risk against its
identified risk tolerance. At that point, it could examine its options to
ensure that any changes made will achieve the balance between risk and return
that it deems acceptable. The key is to avoid making any hasty short-term
decisions before considering long-term repercussions."
Canadian DB Plan Sponsors Not Prepared
It is still early days for pension risk management in Canada-although
plan sponsors in this country recognize the opportunity to learn from
experiences in the U.K. Nearly 40 per cent of Canadian plans have no policy
for dealing with their interest rate and inflation exposures, despite the fact
that they rate interest rate risk as the biggest component of their overall
risk budget. Consequently, Canadian plan sponsors do not appear to be fully
prepared to act quickly when market conditions present themselves that could
allow them to reduce risk.
A more disciplined approach to pension risk management not only helps to
minimize the impact on the company's bottom line, it means employees can rest
easy that liabilities are not going to sink the pension plan and their
retirement income is safe. Hewitt recommends that plans take the following
actions to handle pension risk effectively:
- Consider whether pension risk should become part of an overall risk
- Rather than relying on asset-liability studies or scenario testing to
measure pension risk, use Value at Risk measures and metrics that
break out risk factors separately, such as mortality, currency
fluctuations, interest rates and equity returns, in order to have
better risk control.
- Identify and measure risk exposures within agreed corporate risk
tolerances-and then reassess them frequently.
- Multinational organizations should consider consistent approaches
globally, especially with respect to pension risk measurement.
- Do not lose sight of the other aspects of pension risk beyond the
financial considerations. Pension plans should still meet strategic
talent needs, and should still have clear governance guidelines and
reporting, while the need to monitor regulatory changes and local
plan compliance is greater than ever.
About Hewitt Associates. For more than 65 years, Hewitt Associates (NYSE:
HEW) has provided clients with best-in-class human resources consulting and
outsourcing services. Hewitt consults with more than 3,000 large and mid-size
companies around the globe to develop and implement HR business strategies
covering retirement, financial and health management; compensation and total
rewards; and performance, talent and change management. As a market leader in
benefits administration, Hewitt delivers health care and retirement programs
to millions of participants and retirees, on behalf of more than 300
organizations worldwide. In addition, more than 30 clients rely on Hewitt to
provide a broader range of human resources business process outsourcing
services to nearly a million client employees. Located in 33 countries,
including Canadian offices in Toronto, Montreal, Vancouver, Calgary and
Regina, Hewitt employs approximately 23,000 associates. For more information,
please visit www.hewitt.com.
For further information:
For further information: Marcia McDougall, Hewitt Associates, (416)